Malaysia Response in Financial Crisis 1997 free essay sample

The Response for Malaysia during Financial Crisis in 1997-1998 If we went back to the dark ages of financial crisis in Asia, we should thank our forth prime minister Tun Dr Mahathir Bin Mohamad for the decision that he have done. When all of the Asian countries’ face this problem, some countries do response to solve the crisis. The traditional policy response to financial difficulties has been to seek assistance from the IMF for improving the situation. For such assistance the countries in trouble invariably have to undertake economic and financial reforms, impart more transparency to government spending, and make the necessary macroeconomic adjustments. They must initiate measures to revitalize their economic and monetary systems. Thailand and Indonesia took steps to remedy their weaknesses. Korea too joined in. But these countries soon found the crisis beyond their control, and decided to seek assistance from the IMF. Following the IMF conditions for the help, these countries had to implement tight monetary and fiscal policies, and had to enforce the prescribed structural reformations, particularly in the financial sector. The appointment of Tan Sri Nor Mohamed   Yakcop as Finance Minister II brought back to mind the innovative package of policy measures that Malaysia embarked upon in the dark days of the financial crisis of 1997-2000. The then Prime Minster Tun Mahathir Mohamed took the bold political decisions to introduce and enforce the measures. It was politically and technically a courageous act, as the policies flew in the face of orthodoxy and Dr Mahathir and Malaysia were condemned by the global establishment when they were introduced. Nor Mohammed is credited for explaining the mechanics of the international currency trade to Dr Mahathir and for working out the details and mechanisms of important parts of the policy package, especially the fixing of the ringgit peg to the US dollar, the selective foreign exchange controls and de-internationalisation of the ringgit. Today, the Malaysian measures are widely praised for being innovative and effective. The same International Monetary Fund that heaped skepticism on them has acknowledged that useful lessons can be learnt from the Malaysian experience. History will recognize the Malaysian measures as a landmark as they posed a systematic challenge and a practical alternative to the orthodox policies promoted by the â€Å"Washington Consensus†, or the group of powerful institutions like the IMF, the World Bank and the US Treasury. Many people today point to the Malaysian measures to show that alternative ways of resolving financial and economic crises are possible, do exist and can work even better than the orthodox policies. Malaysia was luckier than other countries affected by the crisis, like Thailand, Indonesia and South Korea. We were not in a debt default situation, and thus did not have to turn to the IMF for loans. Those countries had to obey the IMF, and lost their policy autonomy. The result was high interest rates, continued currency depreciation, and deregulation of foreign ownership that led to the foreign takeover of many local assets. Initially Malaysia also voluntarily took on IMF-type policies. But this did not work, as the high interest rates added to the corporate and banking crisis; the flexible exchange policy enabled the ringgit to depreciate (at one time almost touching five ringgit to the dollar);   the freedom of capital mobility allowed funds to flow out;   and the cutbacks in government expenditure added to recessionary pressures. In 1998, a year after the start of the crisis, the Malaysian model was introduced. This package comprised: * The core macroeconomic measures of interest rates, monetary and fiscal policies. Interest rates were significantly reduced, allowing firms and consumers to breathe again and then to borrow, thus improving investment and consumption conditions. The statutory reserve requirement was reduced to increase liquidity, and banks were encouraged to increase lending. And government boosted its spending, to get the economy moving again when the private sector was in the doldrums. These measures are consistent with the policies advocated by the great English economist John Maynard Keynes and are an integral part of Economics textbooks. They are taken by the US administration when the US is in recession. But they are forbidden to countries borrowing from the IMF, which has insisted on a combination of high interest rates, tight money flows, and government expenditure cuts. Thus ironically the Malaysian economic policies were seen as â€Å"radical† when they should be considered as standard Keynesian anti-recession policies. 1. Stabilising the exchange rate. The ringgit was fixed at 3. 80 to the US dollar, thus ending the previous flexible exchange rate system. This put an end to currency fluctuations and speculation. It allowed the macroeconomic policies to be implemented, and prevented a possible debt servicing crisis, which could have occurred if the ringgit had depreciated to below a certain level, as happened for example in Indonesia. 2. Closing down the overseas trade of the ringgit, and the trade in Singapore of Malaysian shares. This put an end to speculative activities in the currency and in local shares. 3. Regulating capital flows, particularly short-term capital outflows by foreigners and local citizens. Measures included an initial one-year moratorium on outflow of foreign portfolio capital and foreign-owned financial assets denominated in ringgit. Restrictions were placed on capital transfers by local citizens and companies. The restrictions did not apply to the flow of funds relating to foreign direct investment, nor to trade. These regulations were removed a few years later. 1. Maintaining financial stability by deciding on a policy of not closing down financial institutions facing difficulties, and announcing that the government would guarantee deposits placed in banks and finance companies. This prompted depositors to retain confidence in the banking system, unlike in other countries where bank closures (insisted on by the IMF) led to a run on the system and to capital flight. 2. Restructuring and recapitalizing the banking and corporate sectors to enable a recovery in the micro-economy. Among the measures were the establishment and work of Danaharta (an asset management company) to deal with the non-performing loans problem,   Danamodal (a special agency) to recapitalize troubled financial institutions and the Corporate Debt Restructuring Committee to restructure corporate debt 3. Revitalising the various economic sectors affected by the crisis. 4. Maintaining certain key economic and social policies, in particular the regulation of foreign ownership of assets, subsidies and price controls, policies relating to distribution and balance among local ethnic communities. If Malaysia had to turn to the IMF, it would have had to end many of these policies, and there might have been social chaos. But instead the country could continue to regulate the entry and degree of participation of foreign investors in the domestic economy. It could assist local firms and financial institutions facing financial difficulties. The policy of striving for balance in the distribution of assets and equity between locals and foreigners and among the local communities (the New Economic Policy) was basically maintained. Socially-oriented policies could continue, such as price controls on essential consumer items and subsidies on consumer items and to farmers. The government was also able to maintain its own policies on privatization, and on the extent and rate of financial and trade liberalization. Many countries taking IMF loans were pressurized to give up policies such as the above, and this led in some cases to social unrest. There are thus some important lessons from the Malaysian policy response to the crisis. Mainly, there are alternatives to the IMF policies. The Malaysian case shows that such an alternative approach exists, and can be applied in a relatively successful manner with good results. In addition, having policy space and flexibility is important to a developing country. The Malaysian experience also shows that if a country is able to avoid turning to the IMF, it can be free of being in the straightjacket of the IMF’s mainly one-size-fits-all policies, and can choose its own policies and also change them if they are found to be unsuitable. Other than that, a coherent anti-crisis strategy should be seen as an integrated package of its elements and policies. Policy makers sometime facing dilemmas and problems as there are multiple goals and the same policy instrument meant to achieve one goal definitely may give a negative impact on other goals. In fact, when there are many complex trade-offs happened, it is useful to apply the concept of â€Å"think outside the box† and seek new or extraordinary policy or solutions that might be available. In the Malaysian case, the various policy elements should be seen as parts of an integrated approach, or of a whole policy package. Thus, each element should be considered not only on its own merits or for its own role to achieve a particular goal, but also for its function of having an effect on another goal. A particular element or policy may not have the same successful intended effect, unless done together with some other element of policy. Thus, the inter-relationship of the elements and the interaction with one another should be appreciated. As example, reducing the interest rate was important for rescuing the micro economy and reviving the real economy; but doing so would have brought down the ringgit’s exchange rate and threatened the country with a debt default situation. The interest rate had therefore to be separated from the exchange rate. A new policy instrument—fixing the exchange rate—was then introduced. However, this step would have been not enough as speculation on the currency could still take place in ringgit offshore markets; and capital flight could also threaten the foreign reserves position and maintenance of the exchange rate would be unsustainable. During the end of 1997, ratings had fallen from investment grade to rubbish, the Kuala Lumpur Stock Exchange (KLSE) had lost more than 50% from above 1,200 to fewer than 600, and the ringgit had lost 50% of its value, falling from above 2. 0 to under 4. 57 on (Jan 23, 1998) to the dollar. Then, the hero of Malaysian, Tun Dr Mahathir Mohammad imposed strict capital controls and introduced a 3. 80 peg against the US dollar. Therefore, besides that, the stabilization of the currency also required two additional policy instruments—ending the overseas speculation by banning the currency’s trade abroad; and introducing selective capital co ntrols to regulate the outflows and inflows of funds. Therefore, beginning with even one major policy goal (reviving the local companies and the local economy) and a single policy tool (interest rate reduction), the Malaysian strategy also eventually involved several other policy tools and goals. On the other hand, to appreciate the brilliance of the Malaysian model, it is vital to see the role or roles played by each element, and to recognize that each of the measures was part of an integral policy package. Perhaps Malaysians are still too close in time and in geography to be able to distance ourselves and appreciate the full value of the Malaysian model. There were also many measures on the downside, such as the wastage in resources and inappropriateness of some of the rescue operations, especially in the big companies. These situations were heavily criticized at the time as cases of favouritism and cronyism and as a waste of public funds. In the past two years, Nor Mohamed played an important role in his position as Economic Advisor to the Prime Minister to rearrange the structure, ownership and management of several of the companies, and therefore helped in providing a better image to Malaysian citizen and corporate companies. The Malaysian crisis management strategy was the effect not only of one or two people but a team led by Tun Mahathir and comprising Ministers, the National Economic Action Council and its secretariat, and the key government agencies and Ministries. The Economic Advisor of Prime Minister, Nor Mohamed played a vital role mainly in the elements that involve the currency and the selective capital controls. For the public and citizen of Malaysia, they expect that the capabilities owned by Prime Minister and his team have higher potential and expectations that heir skills will be well used to properly leading the finances and economy of the country for the betterment in the future. What Can we Learnt from the Financial Crisis in 1997-2000 Despite of having the worst area of financial during 1997-2000, Malaysian citizen should be very thankful regarding the best decision made by the most powerful man of the country; the Prime Minister. If we can go back to the past, we can easily define the risk taking by our Prime Minister those days, Tun Dr Mahathir Bin Mohamad was a suicidal mission. Most of the countries that affected by the financial crisis will definitely seek for financial help and financial recommendations from IMF as they have no more idea. However, in Malaysias’ situation, we actually created a new solution that backs the roles of IMF itself. During those days, IMF was known and defined as the only solution that they have. For us, to be a leader for our country, determination and risk taking is ultimately important. Other than that, talking about lesson learn, especially in term of economic, the currency rate, and stock exchange do act as key roles for some country to excel in business and financial management. Nowadays, the country that not manipulate their currency itself and hoping 100% on IMF have a slow economic development. That is the only thing that makes us, as a Malaysian proud of our forth Prime Minister, Tun Dr Mahathir Mohamad. References 1. http://www. treasury. gov. my/index. php? ption=com_contentview=articleid=885%3Athe-financial-crisis-of-1997-1998-by-nor-mohamed-yakcopcatid=53%3AucapanItemid=251lang=my Retrieved on 15th August 2011 2. http://en. wikipedia. org/wiki/1997_Asian_financial_crisis Retrieved on 15th August 2011 3. http://www. irti. org/irj/go/km/docs/documents/IDBDevelopments/Internet/English/IRTI/CM/downloads/IES_Articles/Vol%209-2.. Zuabir%20Hasan.. The%201997-98%20Financial%20Crisis%20in%20Malaysia. pdf Retrieved on 16th August 2011 . Kaufman, GG. , Krueger, TH. , Hunter, WC. (1999) The Asian Financial Crisis: Origins, Implications and Solutions. Springer. ISBN 0-7923-8472-5 Retrieved on 14th August 2011 5. http://www. twnside. org. sg/title2/gtrends1. htm Retrieved on 14th August 2011 [ 1 ]. http://www. irti. org/irj/go/km/docs/documents/IDBDevelopments/Internet/English/IRTI/CM/downloads/IES_Articles/Vol%209-2.. Zuabir%20Hasan.. The%201997-98%20Financial%20Crisis%20in%20Malaysia. pdf